Light at the end of the funnel for polluting ships

The owners of ships generating colossal amounts of pollution have just a few years to clean up their act, offering new opportunities for investors.

Chris

Berkouwer

Equity Analyst

The increasing size of ships means that just 15 of the biggest carriers burning heavy fuel oil emit more harmful nitrogen and sulphur oxides than all the world’s cars put together, according to research by the Carbon War Room. And there were 1.2 billion cars on the planet at the last count.

What has happened?

The problem can be seen with the 397-meter long Emma Maersk container vessel, which until May 2017 was the largest commercial ship in the world, measuring 16 meters longer than the Empire State Building. Carrying up to 15,000 containers and weighing in at 171,000 gross tons, it burns 14,000 liters of bunker fuel – a form of heavy fuel oil that is high in sulphur – per hour.

More modern ships led by the current world record holder, the 400-meter long 211,000 gross ton OOCL Hong Kong container ship, are powered by diesel electric engines. These are less polluting than bunker fuel but still burn diesel oil, which generates significant amounts of carbon oxides.

The industry is gradually switching to using the less toxic liquefied natural gas (LNG) as the primary engine fuel. However, converting the engines of existing ships is too expensive for many operators due to overcapacity, low freight rates and high debt levels. Profits among ship owners are at a 25-year low, according to earnings analysis of the main companies transporting containers, bulk commodities, oil and gas.

Further, most ships are chartered by the companies moving the product, and are not owned outright. That means the cost of any engine conversions is borne by the ship owner while the fuel savings and environmental benefits would be enjoyed by the company chartering it, giving the owner little incentive to act.

Why is it important?

Action is now being taken on two fronts. The UN’s shipping regulator, the International Maritime Organization, says it will enforce a cap on sulphur emissions from 2020, while shipping will be included in in the EU’s emissions trading scheme from 2021. Failure to meet emissions targets will mean the dirtiest ships cannot sail.

With banks reluctant to lend to a cash-strapped industry, some ship owners are turning to specialist finance to pay for upgrades. ‘Save as you Sail’ is one such scheme developed by the Sustainable Shipping Initiative, which aims to share the fuel savings between the owner and the charterer over time. The European Investment Bank has also earmarked EUR 250 million in funding for refits.

What does it mean for investors?

“New environmental marine legislation increases the fuel bill for the shipping industry, but it provides opportunities for equipment makers as well as refiners,” says Chris Berkouwer, an analyst with Robeco’s Global Equities team.

“The most material implication from the 2020 sulphur regulations aims to cut the allowed sulphur content of fuel to under 0.5% of total gas emissions from 3.5% today. To comply, shippers can either switch to low-sulphur fuel, which is good for refining companies, or install scrubbers to clean gas emissions, which is good for equipment suppliers.”

“The third option of using alternative fuels such as LNG is probably prohibitively expensive. As the total impact is quite material and the regulatory timeline to implement is very ambitious, pressure is building for the shipping industry. Companies providing the tools to reduce these emissions will benefit most.”

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